Bleak outlook as EU leaders dither on debt

Youthful spectators watch speeches by leaders of the the left-wing Syriza party at a rally in Athens.
Photo: AFP

by
David Jolly

Economic reports show Europe’s prospects dimming as the long battle to defend the euro zone undermines confidence and raises the prospect of a renewed cycle of demands for austerity.

The relentlessly bleak data, reflecting weakness across the Continent and in Britain, came a day after political leaders again failed to break the deadlock over how to resolve Europe’s debt crisis.

Italian Prime Minister
Mario Monti
gave markets in the United States a fillip on Thursday when he said that a majority of European Union leaders at the Brussels summit had backed joint euro area bonds and that Italy could help persuade Germany to support Europe’s “common good" as well.

“Europe can have euro bonds soon," Mr Monti said on Italian television. Germany had an interest in ensuring no country left the euro, while Greece would probably remain in the 17-nation currency region even as “anything can happen", he said.

However, Mr Monti’s view of the Brussels Summit contrasted with others, like that of Luxembourg Prime Minister Jean-Claude Juncker, who said that joint debt sales “didn’t find much support".

The German Economy Minister, Philipp Rösler, drove Mr Junker’s point home. “We believe that euro bonds are the wrong tool to stabilise Europe because it would take away the pressure for reform in our partner countries and it would also undermine market discipline," Mr Rösler said on Thursday.

Nor did Mr Monti’s optimism flow through to European markets, which also recovered after some steep losses on Wednesday, but only because traders needed to cover their recent losses.

James Nixon, an economist with Société Générale in London, said Europe’s slow search for a way out of the crisis was “extracting a very high price in terms of the economy, as well as feeding back into the problems of the banking sector. It’s just making this whole problem bigger".

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And like Mr Monti, Mr. Nixon said fears of a Greek exit from the euro zone were probably overblown, and that the situation – which has already proved “remarkably durable" – could fester for some time.

Elsewhere, a Markit Economics index that tracks the European services and manufacturing sectors fell in May to 45.9 from 46.7, worse than economists surveyed by Reuters and Bloomberg had expected.

An index that reads below 50 suggests that the economy is contracting. In the first quarter, the euro zone economy grew by just 0.1 per cent.

Perhaps even more worryingly, German data released on Thursday revealed signs of a slowdown in an economy that until now had been a bright spot for the Continent. A Markit index based on surveys of purchasing managers of German manufacturing companies fell to 45.0 in May from 46.2 in April.

A separate report from the Ifo Institute, based on surveys of German companies, showed “greater pessimism about their business outlook" and noted that the “recent surge in uncertainty in the euro zone was affecting the German economy".

The data serves as a reminder of how difficult a task European leaders face as they try to shrink budget deficits in a weak economic environment. If recession sets in and gross domestic product declines, then by definition deficits will grow as a percentage of GDP. According to the brand of budget orthodoxy being pushed by Germany and its allies, that would then require further budget cuts, possibly extending the cycle of decline.

The euro zone has made halting progress toward strengthening its firewall against the crisis. On Thursday, the lower house of the Dutch Parliament backed the creation of the European Stability Mechanism, a permanent euro zone bailout fund that will replace the European Financial Stability Facility in July, provided it is ratified by member countries.

The new fund will be able to lend up to €500 billion ($648 billion) to help members of the embattled currency union.